IMF says supply-side reforms can help beat sluggish growth

By David Lawder

WASHINGTON (Reuters) - The International Monetary Fund offered a solution to persistently sluggish economic growth on Wednesday that included proposals to deregulate product markets and adopt policies to boost labor market participation.

But the analysis in the IMF's annual World Economic Outlook acknowledged arguments from skeptics of such "supply side" reforms that deregulation can cause near-term falls in wages and price deflation and so need to be accompanied by fiscal stimulus aimed at boosting near-term.

The IMF said new research shows that structural changes to labor makets and some more heavily regulated business sectors could help lift potential output over the medium term while also helping to strengthen consumer confidence in the near term.

It recommended deregulation of the retail and professional services sectors and network-based sectors such as air, rail and road transportation, electricity and gas distribution, telecoms and postal services, particularly in the euro zone and Japan.

But the Fund said it is important to pair supply side reforms with fiscal stimulus measures to boost near term demand and cushion negative shocks. For example, reductions in unemployment benefits and worker protection laws should be paired with reductions in labor taxes to help boost take-home pay and draw people back into the labor force.

"There is a role for complementing structural reform with macroeconomic policy support. That includes fiscal stimulus wherever space is available," said IMF researcher Romain Duval, a lead author of the report.

Duval and co-author Davide Furceri said that product market deregulation can start to pay growth dividends immediately regardless of the economic environment so they should be forcefully implemented. Economic growth can increase by one percentage point by the third year of the reforms, their research showed.

Another analytical chapter released by the IMF shows that emerging markets are coping better with recent capital outflows due to stronger reserve buffers, less foreign currency debt and more flexible exchange rates.

Those with more prudent fiscal policies, less public debt, stronger financial oversight, and foreign exchage flexibility are avoiding the abrupt currency shocks that characterized previous major emerging market outflows in the late 1980s and late 1990s, the IMF said.

(Reporting By David Lawder; editing by Clive McKeef)